By John Greenhow, CEO and Managing Director – Peloton Blockchain
STOs fill a gap in Crypto Wealth Creation
The emergence of blockchain and crypto-currencies around the world as a new platform for financial activity has opened up new markets, lowered barriers to entry and offered opportunities to create wealth.
ICOs in particular generated fantastic wealth for a few, while many others have been caught short. Despite the wide range of speculative opportunities, many of these options do not allow for “researched investment”.
To illustrate this, compare the make-up of a regular investment portfolio with a portfolio of crypto-currencies.
A traditional portfolio might be arranged to provide a mixture of income or growth while diversifying risk. Individual portfolios (often the domain of the wealth industry) are typically re-balanced to reflect an investors stage in life.
Early on, it’s about long-term growth which means a higher proportion of, say, risky shares in companies from around the world. Later on, there’s a re-balance to focus on preserving capital (say, real-estate or a larger proportion of cash) and then a final move towards an income-oriented portfolio that prioritises regular payments over growth to support retirement.
Looking at many crypto-investors holdings, we see large proportions of ETH or BTC – effectively currency holdings (which are subject to some volatility), with growth opportunities limited to speculative or high-risk new tokens or coins.
STOs, the sale of security tokens that represent fractional ownership in some underlying asset or financial product, are emerging as a powerful mechanism for providing investment (rather than speculative) opportunities to crypto-investors.
Depending on the asset or product they represent (which we call the “underlying”), STOs can provide investors with an opportunity to fill the gap by enabling products like crypto-bonds that can provide a regular income.
At Peloton Blockchain, we want to facilitate these kind of opportunities for crypto-investors.
It’s early days for STOs, and it’s not an easy path
There are a number of challenges in bringing these kind of investment products to the crypto-markets.
First, regulators are rapidly making it clear that digital tokens that provide financial benefit will be treated as securities, which brings a host of complex regulations into play. Designed to protect consumers, the necessity of compliance with these laws is well known to be an ever-increasing cost in global financial markets.
Second, Digital Currency Exchanges (or “DCEs”) must become licensed market operators or alternative trading systems in order to list and trade security tokens. Regulatory sand boxes of the type offered by the Singapore’s MAS or Australia’s ASIC ease the path to compliance and consultants are available to smooth the way.
Third, the capital markets firms that specialise in investment products – and that have the necessary compliance infrastructure – are wary of public blockchains, but their know-how will be hugely beneficial. Equally, many in the crypto-world will not directly engage with the traditional financial services industry. A bridge is needed to connect these worlds. It is in the interests of crypto-investors to bring the wealth industry to the table.
Building a bridge between the crypto-community and traditional financial services.
Exploring financial service’s aversion to public blockchains is a first step, and this highlights a number of common trends:
First and foremost is ongoing regulatory change – for example, many regulators have outright banned ICOs. Few licensed financial services entities want to risk investment on what they may perceive as thin-ice.
Perceived volatility of cryptocurrencies is another turn-off for many firms that look for certainty in their financial forecasts and operations.
There are also the difficulties, real or perceived, stemming from the application of anti-money laundering laws, policies and procedures to a market that values anonymity.
Finally, many of the firms – whether small companies or large corporates, or their licensed broker-dealers – that do want to issue STOs have grown used to out-of-the-box technology.
The slick interfaces we encounter in our digital lives have set a high expectation for simple access to complex services. Having to develop code or use a “domain modelling language” is often seen as an unreasonable risk and cost, as well as a barrier to entry because not all will have access to the necessary skills.
Emerging platforms deliver new solutions
There are a number of platforms emerging that utilise the Ethereum network which looks promising. Several STO tokens have already been issued this way, combining the ease and security of distribution of crypto-tokens with the value of an underlying asset or instrument.
The model and approach of these solutions vary from a dependence upon a utility-token economy to fill the various roles involved in the issuance process, to the adoption of standards to enable compliance. In many cases, transactions are subject to gas fees and volatility.
Compliance with securities regulations may be met or delegated through the adoption of standards, similar to the well-known ERC-20, that provide a kind of template into which newly coded and issued tokens may be fit to enable compliance processes to take place. It will be interesting to watch the standards battle play out. Standards are like toothbrushes – everyone agrees they’re important, but no one wants to use yours.
Permissioned blockchain solutions offer an alternative way forward
An alternative may be found in permissioned blockchain solutions that bridge the gap between traditional capital markets and crypto-markets.
Adopting “enterprise ready” applications that wrap blockchain solutions in familiar clothing is the first step for financial services firms.
Commoditization using pre-packaged libraries of verified, highly flexible smart-contracts can eliminate the need for development. Issuers need never see code.
Permissioned blockchains can provide a network of trusted (and licensed) digital exchanges, ATS and regular stock exchanges, increasing choice for both issuers and investors.
APIs can be used to provide connectivity into a permissioned blockchain network for investors, viewers and to allow exchanges to build business around critical inter-chain functions. APIs also provide flexibility and can be extended to adhere to new standards as they emerge.
Peloton Blockchain has taken this hybrid approach because our goal is to build a bridge between the financial services world and crypto-investors, to the long-term benefit of both.
Choice will create opportunities for industry and investors
As the choice in platform broadens and offerings mature, they’ll bring opportunities for investors, for the financial services industry and for entirely new players. Different firms and individuals will choose the platform that best suits their needs, and over-time we can expect to see greater connectivity between these platforms.
Ultimately, this emerging landscape will bring new products to new investors and greater access to a new kind of global market to the benefit of all.